Transfer of Goodwill: Richard Villar v HMRC
Background – transfer of goodwill
This case involved an orthopaedic surgeon selling his trading practice ‘Richard Villar Practice’ but continuing to work for the purchaser. He made a claim for Entrepreneurs’ Relief.
Virtually all of the proceeds were attributed to the reputation and goodwill of the principle surgeon. As such, HMRC argued that this could not be sold. HMRCs argument was that he had merely changed the way in which he operated and that the proceeds should be treated as income profits under general provisions or ‘sale of occupation income’ anti-avoidance provisions.
The key to the dispute is whether there was a sale of a business and, importantly, whether the goodwill was capable of being sold.
The decision in favour of the taxpayer seemingly conflicts with HMRCs commonly understood view that goodwill attaching to an individual cannot be sold, only exploited.
Richard Villar (“RV”), an orthopaedic surgeon trading under the name ‘Richard Villar Practice’ began exploring the possibility of selling his practice in 2009 with the view to retirement. This is perhaps an unusual course of action in the UK, as in most cases, the value of the practice derives from the skills, expertise and reputation of the practitioner.
HMRC’s stated position is that this is incapable of being sold to a third party. The practice was renowned and attracted repeat patients from across the world.
However, RV became aware of the sale of practices in other jurisdictions, and genuinely believed is own practice was a business capable of being sold This was on the basis that the business had extensive patient records, a client relationship system and other practising consultants, albeit they were not directly employed.
A professional valuation was undertaken valuing the practice at £1,000,000, taking into account that the value of the business was highly dependent on the taxpayer with virtually all of this value attributable to his ‘goodwill’.
The taxpayer sold his practice and entered into a consultancy agreement with the buyer to continue offering his services via a Personal Service Company (“PSC”). This is a common arrangement, and given the value placed on the principle seemed a reasonable course of action to ensure a smooth transition.
The consultancy agreement restricted the taxpayer from being able to work for any other practice in the UK, but did not impose any obligation to work for the purchaser.
To summarise the key facts:
- The taxpayer sold an Orthopaedic Surgery Practice consisting of patient records, systems and goodwill, including the right to trade exclusively under the name Richard Villar for consideration of £1,000,000.
- The taxpayer agreed to continue working for the practice via his PSC.
- Virtually all of the proceeds were attributable to the reputation attaching to taxpayer, with the valuation taking into account the risks associated with the taxpayer ceasing to work for the practice.
- There was no obligation for the taxpayer to continue working in the practice, and there could not be any real prospect of ensuring this as the taxpayer was seeking to retire and undertake voluntary work abroad.
- The taxpayer was no longer involved in the management and decision making of the practice.
- The buyer continued to operate the practice with exclusive right to operate under the name Richard Villar Practice Ltd.
HMRC’s Position – transfer of goodwill
HMRC’s challenged the nature of the £1,000,000 payment from two angles:
- The payment represented payment for services and should be subject to Income Tax in the hands of the taxpayer;
- If the payment was capital, it should be treated as income under anti-avoidance provisions dealing with the ‘sale of occupation income’
Both lines of attack relied on the assertion that the disposal did not constitute the sale of a business.
The first argument is that the arrangements were merely a change in the way in which the taxpayer carried on his occupation, which any proceeds being treated as income in nature and chargeable as profits of his profession. In essence, the argument was that the payment was an advanced payment for services, rather than the acquisition of a business. This was on the basis that:
- Virtually the whole of the payment related to goodwill;
- Insofar as there was personal goodwill, it was personal to the taxpayer and could not be transferred by him as property to the buyer;
- The proceeds attributed to other assets such as contact names and addresses was a nominal £4;
- The taxpayer did not cease to provide his services, nor to carry on his profession; and
- The appellant agreed to provide his services on a virtually exclusive basis;
Failing the above, the alternative argument was that any capital payment should be treated as an income receipt under anti-avoidance provisions.
Those provisions apply where:
- An individual carry on an occupation wholly or partly in the UK;
- Transactions are effected or arrangements made to exploit the individual’s earning capacity in the occupation by putting another person in a position to enjoy all or part of the income; and
- A capital amount is obtained by the individual
There are two overriding conditions which must be met, namely that there must be an arrangement intended to exploit the earning capacity of an individual, and that one of the main objects of the arrangements is the avoidance or reduction of income tax.
In essence, this seeks to prevent practitioners from selling their businesses for a lump sum which is subject to CGT whilst they continue to operate.
For example, I – a tax adviser – could sell my services as a ‘business’ to a 3rdparty in return for a lump sum of £1,000,000 and continue to work for the purchaser. The perceived mischief is that the sum of £1,000,000 reflects payments to exploit my services i.e. my future earnings, but is taxed as capital and at a rate of 10%, instead of 20%, 40% and 45%.
The Defence – transfer of goodwill
Appreciating that it is unusual to sell an occupation led business, it appears that HMRC overlooked a number of unique factors in this case. In respect of HMRCs first point, Keith Gordon (Counsel for the taxpayer) noted that:
- A professional valuation of the business was undertaken, and the sale agreed to between the unconnected parties was the sale of a business;
- The parties to the sale were unconnected with all transactions taking place on arm’s length terms;
- The reputation of the practice was attributable to the ‘Richard Villar Practice’ of which the taxpayer was the figurehead, rather than to a specifically named practitioner with other consultants treating patients;
- The valuation recognised the dependence on the reputation of the business, and therefore applied a conservative valuation approach;
- The taxpayer gave up his right to earn any income and parted with all intellectual property, decision making and managerial activity;
- The purchaser had no right to require the taxpayer to provide any services and they were aware that there was a real prospect that he would fail to do so;
- Holistically, HMRCs approach is denying the commercial reality of the situation– the reputation of the practice, albeit by virtue of the figurehead, is a form of goodwill with capital value capable of being realised
Counsel also referred to a number of indicative tests which sought to distinguish capital receipts from income, including:
- Duration – the sale of the business was a one-off permeant sale and accompanied by a five-year restrictive covenant to allow the purchaser to protect its capital investment;
- Value– the taxpayer received a valuation of £1,000,000 in accordance with a professional valuation;
- Material Diminution in Rights– there was an outright disposal of the taxpayer’s rights in the business;
- Lump sum vs frequency of payments– a single payment for the once and all disposal of a business is unlikely to constitute income;
- Transfer of Risk– the taxpayer transferred the risk of operating the business to the purchaser. They bore the entire risk of the taxpayer’s potential inability to or refusal to provide any further services in it;
In taking a holistic view, that factors taken as a whole should be sufficient to evidence that the payment was made in consideration of the acquisition of a business, as opposed to merely the sale or exploitation of services.
In respect of the potential anti-avoidance arguments put forward by HMRC, Counsel’s riposte was that the arrangements were clearly not those which sought to exploit the earning capacity of the taxpayer. Instead, this genuinely constituted the transfer of the business. Any suggestion that the main objective of the arrangements was to seek a tax advantage as being absurd.
The court in taking a holistic approach decided in favour of the taxpayer, noting that the key dispute was whether the arrangements entered into amount to the sale of a business.
It was largely a question of fact as to whether there was a business. In weighing up all of the evidence, it seemed to the tribunal that the taxpayer had built up a practice that was unlike that of many other consultant surgeons.
The particular method of carrying on the business resulted in a book of customers which provided repeat business and the name ‘Richard Villar’ followed by ‘Practice’ was capable of attractive customers, notwithstanding the fact that not all medical services were provided by RV himself.
Interestingly, the courts discussion recognises the fact that much of the goodwill connected with the name Richard Villar did not prevent him from parting with the goodwill.
What of Goodwill?
This case involved the transfer of a business whose value derived from the goodwill attaching to the skill and reputation of the principle. This is an important development, as many businesses sought to transfer their businesses to a new company, selling ‘goodwill’ to the company in return for a capital receipt. The company would also receive tax relief by writing-off the goodwill over time.
However, HMRC have long considered that this type of arrangement does not work because goodwill attaching to an individual is not capable of transfer. However, this case seemingly accepts personal goodwill may be capable of transfer. Ultimately it will dependent on the facts of the case, and an important point to bear in mind is that the name of the practice had value, albiet that this derived from the figurehead.
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Transfer of goodwill Richard Villar v HMRC was last updated on 9 April 2019